World View & Market Commentary. Forest first; Trees second. Focused on Real & Knowable facts that filter through the "experts" fluff and media hyperbole. Where we've been, what the future may hold and developing a better way forward.

Monday, March 2, 2009

It is my pleasure to introduce a new stock market index developed by myself and Josh Mann. Why is this a “REALITY” index? Because it is the only index that will capture your true performance if you BUY AND HOLD.

SUBSTITUTION BIASThe truth is that all the indices have errors in them causing them to not match reality. For example, if you would have bought each of the DOW 30 stocks in the year 1928 (the year it first became 30 stocks) and held those stocks until today, you would not be rich as the financial industry would lead you to believe. In fact, YOU WOULD BE BROKE had you done that as the ONLY REMAINING STOCK IN THE INDEX today is General Electric, trading today at $7.50. And, to make matters worse, you would hold those GE shares (and no others) denominated in dollars that today are worth only about 5% of what they were due to the dollar losing nearly 95% of its value. Good long term investment?

That particular error is referred to as substitution bias. All the current indices that I know of have this error. The MRI will eliminate that bias in the following manner: The MRI will be restarted at the beginning of each year. Thus, you will have an MRI 2009, MRI 2010, etc., so that at the end of a century you would have 100 different MRIs. As companies fail, they will not be replaced (if they move to another exchange they will be followed). Thus, if you are in the year 2050, you can look at the MRI 2009 and see what an investment in stocks would have returned, without substitution bias.

DIVIDENDSThe flip side to most indices is that they do NOT include dividends in their calculations. Thus, if those 30 stocks would have survived, not only would you have the stock appreciation over the years, you would also have accumulated significant dividends. How can you know by looking at the current indices? You can’t!

This index tracks cumulative dividends and adds them to the value of the index, the only index that I know of to do this.

CALCULATING THIS INDEXIf you go to research the current indices, you will find that you will run into a brick wall trying to find out exactly how they are calculated. For example, try to find out the stocks that comprise the Wilshire 5,000 (this is closest to the companies contained on the MRI). Good luck, I hope you’re ready to pay up, because that’s the only way they will tell you, and you certainly won’t get to see the exact formula they use to calculate it. Everyone on Wall Street, it seems, has a secret.

In general, there are two primary ways that indices are calculated: Price Weighted and Float Weighted.

•Price Weighted Indices: Stocks with the greatest share prices count the most in the index. These indexes are calculated by adding the share prices of all the stocks in the index and dividing by the number of stocks. The DOW is the most widely known Price Weighted index.

Over time, however, due to corporate events such as stock splits and spinoffs, you must adjustment the formula. Instead of simply dividing by the number of stocks in the index, you divide by a number called the divisor.

•Float Weighted Indices. A company's "float" is the value of shares available to the public to be bought and sold. Most indexes use this methodology, and give the greatest weighting to stocks with the largest float. This is the method used by the Standard & Poor's 500.

The MRI is a Float Weighted index, however, we are including ALL issues of a company’s stock to capture the total market value of the total shares.

The MRI currently contains 7,757 stocks! They are ALL the stocks listed on the NYSE, AMEX, and NASDAQ exchanges.

Thus you could say that the MRI represents almost THE ENTIRE MARKET. Soon, I plan on introducing other indices that parallel and mimic other well known indices so that they can be compared over time, but without the errors inherent in each.

So, this index captures the stocks on those exchanges at the beginning of each year and tracks those company’s stocks. If the company dies, it dies and is not replaced. A new company on the exchange will not join the MRI until the beginning of the next year and then only in that year’s MRI.

In general, our index works as follows: A company’s total shares are multiplied by its share price. Then the prorated amount of dividends paid over each day is added to the value of stock. This calculation is run for all 7,700+ stocks and the total value captured. If you would like to see a spreadsheet of all the issues and how the index is calculated, please email me and I will make that available to you for transparency, but I do claim all rights to the concept, formula, and index.

The total value of the index is then added up in terms of both dollars and also in terms of gold, with both being displayed separately for comparison.

So, the value that you see on the MRI is the actual market value plus dividends of all those companies (the bulk of the entire market) expressed in BILLIONS such that an index value of 8,500 represents a market value of $8.5 trillion on the dollar based index (MRI).

The gold based index is expressed in millions. It is calculated by dividing the total dollar value by the price of gold per ounce. Thus it could be said that the entire market could be bought by the number of ounces of gold found on the MRIG.

-click on chart for full view

Here is the MRI 2009 expressed in dollars:

Here is the MRI 2009 expressed in Gold (MRIG):

Here is both on the same chart:

I am currently working on acquiring the data for 2008 and will post those charts as soon as I get them up.

It is my desire that these indices be used to cut through the fog of investing so that people can see what a buy and hold strategy will actually accomplish over time. Currently I am only updating these charts at the end of each market day. It is my desire to enter into an agreement with a chart plotting service to make this index available in real time and adjusted continually. To contact me, please email to time4changenow@comcast.net

*This chart is made public under blanket permission for NOT FOR PROFIT uses. Any use of this index or charts for PROFIT, must be done with the written expressed permission of Nate Martin and Wingman Investments, LLC.

**Wingman Investments, LLC. claims trademark on the term “reality index” and reserves all rights associated with the term and calculations to include all byproducts including ETFs, funds, and derivatives based upon these indices.